IBM rises again as its stock passes a declining Microsoft

IBM's reinvention as a software and services company has brought it back to …

Hot on the heels of Apple passing Exxon Mobil to become the most valuable business in the world, there's another shakeup at a slightly lower level. IBM is the second-largest tech company by market cap last week, behind Apple and just a hair ahead of Microsoft. It's the first time in 15 years that Big Blue looks larger than Redmond.

Around the turn of the millennium, Microsoft's market cap was three times the size of IBM's, topping out at $600 billion during the peak of Microsoft's powers. That was also the pinnacle of the dot-com bubble. As you might imagine, things have changed since then.

A picture says a lot

To get a sense of how your favorite tech titans of today arrived where they are today, I've pulled up some market cap data from Capital IQ, a division of Standard & Poor. These charts will look similar, but not identical, to the share price charts you can pull up on Yahoo Finance. The differences between the two chart styles stem mostly from the company issuing or buying back shares, which affect the stock price but not the total value of all available shares. Feast your eyes on this:

Market capitalizations over the last five years.

In the last five years, IBM's market cap has nearly doubled while Microsoft's dropped by about 30 percent. There were times when this position-flip looked inevitable, such as when the Vista debacle hit its shares at the same time as the mortgage-fueled financial crisis of 2008, but it never quite happened. Until now.

Of course, neither of these companies can hold a candle to the recent growth of Apple, which passed IBM's total value only two years ago and then jumped ahead of Microsoft's in the summer of 2010. There was a time when lowly Dell was bigger than Apple, and any change in that relationship looked newsworthy. Not so much, these days.

I threw a couple of extra tickers into that chart to provide a sense of scale. You can see Exxon rising and falling with oil prices, everyone taking a hit in 2008 and 2009, and Google's valuation mirroring Microsoft's ups and downs—except for the long-term value erosion that Mr. Softy has suffered while Big G did not. Meanwhile, pharmaceutical giant Johnson & Johnson went through the same rises and falls in the markets as our tech pets, but with smaller effects on the stock. J&J is a very mature business, and everybody needs Band-Aids™ and Tylenol. Wild swings just don't happen to a stock like that.

So in that picture, you can see the difference between still-breathing growth stocks (Apple), empires in decline (Microsoft), established giants on a moderate upswing (Google and IBM), cyclical stocks in fully mature industries (Exxon), and even a Stoic defense play (Johnson & Johnson), which is less sensitive to market swings.

But wait! There's more!

The differences and the empire-building timelines become even clearer if we zoom out a bit. Here's the same market-cap rundown over the last 20 years:

Ticker

Market cap: 10/2/1991 ($ Millions)

Share price: 10/2/1991 (Dollars)

Starting price without dividend adjustment (Dollars)

Share price: 10/2/2011 (Dollars)

Percent change

Unadjusted percent change

AAPL

11,532.4

11.85

12.44

381.32

3,117.8

2,695.2

GOOG

32,398.5

100.34

100.34

515.04

413.2

413.2

IBM

30,185

18.8

25.28

174.87

830.1

591.7

JNJ

29,973.7

7.25

10.94

63.69

778.4

482.1

MSFT

15,162.1

1.42

1.81

24.89

1,652.8

1,275.1

XOM

73,216.1

8.56

15.06

72.63

748.4

382.2

Apple hardly mattered in the 1990s and Google didn't exist. You can tell exactly where Exxon merged with Mobil, and when IBM's decade of rebuilding ended—Big Blue was more of a cautionary tale than an oft-imitated template for IT success when the '90s started. Sam Palmisano designed the software and services powerhouse that you see today and that Oracle, HP, and even Cisco want to copy.

And you know, Apple's chart in the iStuff era looks hauntingly similar to Redmond's rise a decade earlier, when it soared on the merits of Windows 95. Can Tim Cook keep the good times rolling or will history repeat itself in Cupertino?

You can even suss out the motivations behind a few business decisions from a chart like this. With rapid growth a distant memory, did Microsoft have any choice but to start paying dividends in 2003?

If I may wear my investor hat for a second, those steady little dividend payouts do make a difference, by the way. Buying IBM, Exxon, and J&J stock in 1991 would have netted you a return of somewhere between 5 and 7 times your money—but reinvesting dividends along the way juiced all three returns to about 800 percent, or nine times the original investment. If (or when) Apple's ridiculous sales and earnings growth subsides, Cupertino is sure to follow Microsoft down Dividend Road. It's how a mature business keeps shareholders happy.

Let's put revenue and profit in there, shall we? Or are we really saying that the stock market is the best reflection of financial reality out there? Or did 2008 not happen and that was a bad dream on my part? Seriously Ars, if I wanted to read this crap I'd read MG Siegler over at TechCrunch. At least I know he'll spend most of his time finding the right numbers to prove the point he wanted to make before he checked out any data.

While market cap may be useful (or appear useful at least) to stock brokers, it really has little to no bearing on the health or prospects of a company. Form a product and organization standpoint Microsoft is stronger than it's ever been. Apple OTOH is a couple of misteps away from losing the "cool" and taking a nosedive back into irrelevance. While they have made a lot of money with their strategy of aiming for the high-end, they don't have anything to fall back on if that falters.

Let's put revenue and profit in there, shall we? Or are we really saying that the stock market is the best reflection of financial reality out there? Or did 2008 not happen and that was a bad dream on my part? Seriously Ars, if I wanted to read this crap I'd read MG Siegler over at TechCrunch. At least I know he'll spend most of his time finding the right numbers to prove the point he wanted to make before he checked out any data.

You do realize that market cap is a function of a lot of things that are more important than revenues and profits, right? Revenues and profits by themselves are not very useful in determining the value of a company, but I guess they are convenient, since they provide a concrete hard metric to look at.

The only issue with market caps is that it is a guess, but it is the best one we have. (It also has some marked deviations caused by day trading and the like which disappear when looking at it from a more zoomed out perspective, which is what is happening here).

Apple OTOH is a couple of misteps away from losing the "cool" and taking a nosedive back into irrelevance. While they have made a lot of money with their strategy of aiming for the high-end, they don't have anything to fall back on if that falters.

This sort of well-informed financial analysis is the main reason I keep reading comments at Ars.

Let's put revenue and profit in there, shall we? Or are we really saying that the stock market is the best reflection of financial reality out there? Or did 2008 not happen and that was a bad dream on my part? Seriously Ars, if I wanted to read this crap I'd read MG Siegler over at TechCrunch. At least I know he'll spend most of his time finding the right numbers to prove the point he wanted to make before he checked out any data.

Indeed. Microsoft has a higher profit margins, higher EBIDTA and net income than IBM, and better P/E ratios.

Focusing solely on Market Cap doesn't paint a meaningful picture (market cap can sometimes purely be about market confidence... even if you post losses... like Amazon back in the day).

While market cap may be useful (or appear useful at least) to stock brokers, it really has little to no bearing on the health or prospects of a company. Form a product and organization standpoint Microsoft is stronger than it's ever been. Apple OTOH is a couple of misteps away from losing the "cool" and taking a nosedive back into irrelevance. While they have made a lot of money with their strategy of aiming for the high-end, they don't have anything to fall back on if that falters.

I can't imagine why a stock broker would use market cap aside from screening out small companies. It's just the number of shares outstanding times the last traded share price; overall it's not very useful for determining whether to trade or invest in a company.

Let's put revenue and profit in there, shall we? Or are we really saying that the stock market is the best reflection of financial reality out there? Or did 2008 not happen and that was a bad dream on my part? Seriously Ars, if I wanted to read this crap I'd read MG Siegler over at TechCrunch. At least I know he'll spend most of his time finding the right numbers to prove the point he wanted to make before he checked out any data.

While stock price is a factor, it's a small one. If you view revenue and profit one could hardly argue that Microsoft is in decline. The only thing this says is that investors are coming back to IBM again...in no sense does it mean that MSFT is in decline.

For the fiscal year ended June 30, 2011, Microsoft reported record company-wide revenue of $69.94 billion, up 12 per cent year on year, while fourth quarter revenue was up eight per cent to a record $17.37 billion. Net income for the year rose 23 per cent to $23.15 billion, with $5.87 billion generated in the fourth quarter.

I agree wholeheartedly with your views Lemurs...luckily, I don't come to ars for financial advice.

Let's put revenue and profit in there, shall we? Or are we really saying that the stock market is the best reflection of financial reality out there? Or did 2008 not happen and that was a bad dream on my part? Seriously Ars, if I wanted to read this crap I'd read MG Siegler over at TechCrunch. At least I know he'll spend most of his time finding the right numbers to prove the point he wanted to make before he checked out any data.

Market cap is correlated to revenue and profit when we're talking about decades long timescales.

Never mind the fact that IBM's software division makes software that has terrible speed, has prices raised by 10-20% a year, and has user interfaces that were obsolete a dozen years ago. There's no way in hell anyone today would pick up software that IBM sells unless they're mandated to by a contract or their company already went in. Those that are in want out. If they keep raising their prices, that'll happen sooner or later. Their software sales will go up, up, up...then crash flat on them in an instant.

Apple OTOH is a couple of misteps away from losing the "cool" and taking a nosedive back into irrelevance. While they have made a lot of money with their strategy of aiming for the high-end, they don't have anything to fall back on if that falters.

the $499 ipad is high end of the computer market?also i'm not sure about the why of "they have nothing to fall back on." apple can't change strategies to meet new market demands if necessary? why is that?

Let's also keep in mind that Microsoft has been aggressively buying back shares. Wouldn't this negatively affect its market cap?

nope, the company doesn't become less valuable because there are less shares available so the share price goes up. That's the reason for share buybacks in the first place, its a tax friendly version of dividends.

For those hating on market cap, it actually captures an average market consensus on a company's growth prospects.

In other words, Microsoft may have had record revenue, but it's biggest strength, it's Windows Division, actually shrank by a percent. You can argue that this is good, overall, as it signifies a good diversification of Microsoft (which is what I believe), but it is also troubling because a lot of Microsoft happens to rest on Windows (Business services, Office sales, IE usage, Live, Bing, etc).

Microsoft's future prospects are challenging because mobile is currently dominated by Android and iOS, neither of which feed into Office, IE, Live, or business services. Growth of iPad also is challenging PC sales, even if we don't know long term the effects, because it indicates there are additional markets Microsoft is currently not reaching, not profiting from, and if iOS stays strong, won't profit from.

Windows 8 is of course a contender, but there's no reason to expect it to be more successful than WP7 given the similarity in design, execution, and appearance.

Apple OTOH is a couple of misteps away from losing the "cool" and taking a nosedive back into irrelevance. While they have made a lot of money with their strategy of aiming for the high-end, they don't have anything to fall back on if that falters.

This sort of well-informed financial analysis is the main reason I keep reading comments at Ars.

It's funny that Ars puts up an article a few times about how things are more than just Market Cap and then puts up whole articles talking about Market Cap numbers. I guess whatever you need make a headline that draws eyeballs, huh? or "Do as I say, not as I do"?

Market cap is how many shares a company has multiplied by how much someone/something is willing to pay per share. There are many, many factors that go into how much someone/something is willing to pay per share. Most of it is "perceived" something or other... mostly, it's "can I find someone to buy it from me for more than I paid for it". Eventually this works out to be a sort of equilibrium and that's the current stock price (which is the multiplier of the number of shares a company has). Popularity is one of those factors... if you think the company is popular, it will make more sales, which generate more profits for the company, which make the stocks more desirable by others, which will persuade them to buy the stocks from me for more than I paid for them.

Market Cap *is* nominally the estimated current value of future cash flows that investors will eventually foresee (either through dividends or through the sale of the company). It is, in fact, a great measure of the health of a company - a upward change in market cap means investors will get more money for their shares, and a downward change means investors get less money for their shares.

Key word is "expectations" which are not based purely on facts. The market has demonstrated time and again that it is not a rational creature, and yet investors behave consistently like it is. They do not forsee even predictable events, they definitely do not percieve bubbles very well, their impression of the worth of stocks is often shifted by coverage by analysts and press coverage. In other words, market cap tells you how people "feel" about a stock at a given point in time. Generally over time it corrects to somewhere near reality due to market corrections and other factors, but there are often wild swings in and around reality. Again, see: 2008. Also, 2000, 1997 in Asia, and many other cases where the market moved far from the reality of what the numbers tell you.

the $499 ipad is high end of the computer market?also i'm not sure about the why of "they have nothing to fall back on." apple can't change strategies to meet new market demands if necessary? why is that?

It's the high end of the tablet market, as Amazon showed us last week. Apple has consistently and continually resisted designing or continuing to sell products that slide into the medium-low end of the market. They have a well deserved reputation as fickle, and are almost eager to screw their community and partners if it suits them. It's happened so many times they barely have a fanbase of professionals and developers left at all.

Past performance is not an indicator of future performance, but they certainly haven't been building the infrastructure and relationships needed to weather a period where they aren't on top. If they start to stagnate without Jobs, it could all come crashing down very fast. I have no doubt the ignorant "analysts" who set things like market cap will be taken completely by surprise, as usual.

Let's put revenue and profit in there, shall we? Or are we really saying that the stock market is the best reflection of financial reality out there?

Actually it is. For tech companies its actually a pretty good predictor, in the end profit by itself is not a good indicator of company worth, FUTURE profit is much more important. And Microsoft is in decline. Its very strong in many regions but its profits still overly depend on two software packages that belong to the past. It will not go away but it will not dominate as it once did. Now the question for Apple is if they can keep the magic alive, but they are definitely not as frail as was indicated here, they have a big set of money spinners and will not loose their cool very fast.

It's hard for a company to be in decline while simulataneously increasing its revenue, and profits and free cash flow (IBMs revenue and profts have also increased at similar rates, but its free cash flow has been declining).

IBM, though, does have much higher earnings per share (largely, I think, because Microsoft doesn't give much in the way of dividens)... so for an investor its stock is much more attractive than Microsoft's, particularly because Microsoft stock price has always been flat.

As for Market Cap... let's put it this way: Zygna is roughly valued at between 15 and 20 billion dollars, making it, very easily, the largest game company in the world (and its revenues are less than a 3rd of those of Activation). I don't really think that their market cap really have very much to do with their current performance (or even optimistic expectations of future performance).

actually if these events were so predictable there would be some very rich rational people (apart from Warren Buffet who seems to fall in that category). Or in other words hindsight is a great decision helper. The old saying says markets can behave irrational for longer than most people have money.

It's funny that Ars puts up an article a few times about how things are more than just Market Cap and then puts up whole articles talking about Market Cap numbers. I guess whatever you need make a headline that draws eyeballs, huh? or "Do as I say, not as I do"?

What you say makes sense if there was anywhere in this article where it was written that market cap (as opposed to "Market Cap" [?]) is the only metric that matters when evaluating a company's performance. I don't see how saying "market cap isn't the only thing that matters" somehow contradicts "let's look at some market cap numbers to see if anything interesting pops out". I also don't see how that instantly makes Ars have zero journalistic integrity, which is what you're accusing them of here. If you're going to make such a bold and insulting statement, the burden is on you to provide about 100x more evidence than you have here.

Apple OTOH is a couple of misteps away from losing the "cool" and taking a nosedive back into irrelevance. While they have made a lot of money with their strategy of aiming for the high-end, they don't have anything to fall back on if that falters.

This sort of well-informed financial analysis is the main reason I keep reading comments at Ars.

Amazing.

Back to the topic at hand, my speculation is that MSFT's old stock price had expected growth factored in while the current price reflects the slowed growth. So not bad all if MSFT continues to grow slowly and give dividends investors will be happy. Apple can't grow forever of course as the article mentions. Now is not the time to give dividends however. Better to save the money for M&A.

actually if these events were so predictable there would be some very rich rational people (apart from Warren Buffet who seems to fall in that category). Or in other words hindsight is a great decision helper. The old saying says markets can behave irrational for longer than most people have money.

If you know enough about a certain areas, it's feasible to predict short term moves in the right direction thanks to market psychology. But trying to guess longer term is a lot harder and probably foolish.

Let's put revenue and profit in there, shall we? Or are we really saying that the stock market is the best reflection of financial reality out there? Or did 2008 not happen and that was a bad dream on my part? Seriously Ars, if I wanted to read this crap I'd read MG Siegler over at TechCrunch. At least I know he'll spend most of his time finding the right numbers to prove the point he wanted to make before he checked out any data.

Market cap is correlated to revenue and profit when we're talking about decades long timescales.

It's only a general correlation. A company can have strong revenue and profit but still have a low market cap due to external factors like market perception, whether justified or not. As such market cap is not a good assessment of a company's outlook. You have to look at the basics like profit margins, competitors, etc.

The differences between the two chart styles stem mostly from the company issuing or buying back shares, which affect the stock price but not the total value of all available shares.

Of course buying back shares affects market cap. This is an absurd, false statement.

In msft's instance, the reality is seemingly reversed from this statement. Their share buybacks have significantly reduced market cap, but have had little, if any, discernible impact on the stock price. (Five years ago msft had 9.8 bil shares outstanding and the stock was at $27.87. Today, the latest number for shares is 8.6 bil with a share price of $24.75.)

Apple OTOH is a couple of misteps away from losing the "cool" and taking a nosedive back into irrelevance. While they have made a lot of money with their strategy of aiming for the high-end, they don't have anything to fall back on if that falters.

the $499 ipad is high end of the computer market?also i'm not sure about the why of "they have nothing to fall back on." apple can't change strategies to meet new market demands if necessary? why is that?

The best case scenario is Tim Cook keeps apple going like it should, doing things the way Steve does. However, there will not come from apple "the next big thing." Imagine if SJ was gone 3 years ago and the ipad never came out or wasn't the way it should have been.

The worst case scenario is that Tim Cook acts like any other CEO, doesn't fire people who don't care about their job (like the mobile me incident), only come out with products that are marginally better or start to become just like their competitors, then slide into irrelevance.

*Start sarcasm* Either way, they don't have the magical RDF anymore. I mean, what will the face of apple be without Jobs? Who's Tim Cook anyhow?

Market cap also reflects the consensus view about future earnings potential. Analysts have been betting against Microsoft for years based on the belief that the Windows and Office cash cows would eventually dry up. It's gotten even worse today, since so many have bought into the "post PC era" hyperbole.

What is undeniable is that Microsoft technologies are no longer the center of gravity they once were. This is inevitable, and will happen to Apple and Google one day too.

However, I agree that Microsoft is doing its best work in many years. If Windows 8 is successful, Windows Phone starts to make and impact, and Xbox continues to do well, analysts will be writing this same story in 2-3 years about MS.

Let's put revenue and profit in there, shall we? Or are we really saying that the stock market is the best reflection of financial reality out there? Or did 2008 not happen and that was a bad dream on my part? Seriously Ars, if I wanted to read this crap I'd read MG Siegler over at TechCrunch. At least I know he'll spend most of his time finding the right numbers to prove the point he wanted to make before he checked out any data.

Market cap is a great way to determine the value of a company because it incorporates the expected future growth of the company.

Market cap is not an equation that includes future growth and can be largely the result of irrational public perception.

Consider a pharm company that gets a bad public rep due to a drug scare and is never able to recover their image despite having steady growth from other products.

There is no reason to consider Microsoft to be an "empire in decline" based on market cap anymore than Apple, IBM or Exxon. Market cap says nothing about how well those companies will do in the future. It can also go the other way in that the public can overrate companies for irrational reasons and inflate the stock price/market cap.

Stock traders are not statisticians, for every rational investor that studies metrics like P/E ratios there are a dozen day traders that buy whatever they feel is trendy or heard their friends are buying.

Microsoft's profitability rests heavily on the extremely high margins it earns on Windows and Office. Even if Microsoft is able to grow revenue by expanding to other markets (which is not something it has had much success with in the last decade), it is very unlikely that these markets will provide similar margins to Windows/Office. For example, look at XBox, their most "successful" endeavor beyond Windows/Office. After 10 years they've finally managed to generate some decent revenue with it, but the profit margins are pitiful. Thus investors rationally expect that Microsoft will not be able to generate significant profit from any product line beyond Windows/Office.